A Summary of the Goldman Sachs Fraud Case, and the Downfall of Icons

[Joanne98]

There is quite a bit of spin surrounding the Goldman Sachs deal. The best debunking of the spin around the nature and quality of the SEC's case was written by Barry Ritholz.

One of the best summaries of what the deal actually encompassed is excerpted below by Rolling Stone journalist Matt Taibbi.

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"Here's the Cliffs Notes version of the scandal: Back in 2007, Harvard-educated hedge-fund whiz John Paulson (no relation to then-Treasury secretary and former Goldman chief Hank Paulson) smartly decided the housing boom was a mirage. So he asked Goldman to put together a multibillion-dollar basket of crappy subprime investments that he could bet against. The bank gladly complied, taking a $15 million fee to do the deal and letting Paulson choose some of the toxic mortgages in the portfolio, which would come to be called Abacus.

What Paulson jammed into Abacus was mortgages lent to borrowers with low credit ratings, and mortgages from states like Florida, Arizona, Nevada and California that had recently seen wild home-price spikes. In metaphorical terms, Paulson was choosing, as sexual partners for future visitors to the Goldman bordello, a gang of IV drug users, Haitians and hemophiliacs, then buying life-insurance policies on the whole orgy. Goldman then turned around and sold this poisonous stuff to its customers as good, healthy investments.

Where Goldman broke the rules, according to the SEC, was in failing to disclose to its customers – in particular a German bank called IKB and a Dutch bank called ABN-AMRO – the full nature of Paulson's involvement with the deal. Neither investor knew that the portfolio they were buying into had essentially been put together by a financial arsonist who was rooting for it all to blow up.

Goldman even kept its own collateral manager – a well-known and respectable company called ACA – in the dark. The bank hired the firm to approve the bad mortgages being selected by Paulson, but never bothered to tell ACA that Paulson was actually betting against the deal. ACA thought Paulson was long, when actually he was short. That led to the awful comedy of ACA staffers holding meeting after meeting with Goldman and Paulson, and continually coming away confused as to why their supposedly canny financial partners kept kicking any decent mortgage out of the deal. In one ACA internal e-mail, the company wonders aloud why Paulson excluded mortgages issued by Wells Fargo – a bank that traditionally created high-quality mortgages. "Did give a reason why they kicked out all the Wells deals?" the quizzical e-mail reads."

Matt Taibbi, The Feds Vs. Goldman

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This is fraud, pure and simple. Goldman did not stand by and allow ACA to make its picks. Goldman and Paulson aggressively influenced the selection process, vetoing the good mortgages, and manipulating ACA, setting them up to be the fall guy in what is clearly a premeditated fraud.

http://jessescrossroadscafe.blogspot.com/2010/05/summary-of-goldman-sachs-fraud-case-and.html

[econoclast]

1. Counterexample...

I posted this in another thread, but it fits here as well ...

Suppose, in early 2007, Warren Buffet went to JP Morgan and said:

"I am a value investor and always on the lookout for underpriced assets. I have discovered a group of mortgage related bonds that are rated Bbb or worse. I have done the homework and think they are waaaaay undervalued. The rating agencies have it wrong. I think theese things are going to take off. They are going to the moon! I want to invest in these particular bonds. But, I don't want to go through the time and effort to locate the owners of these bonds and try to make separate deals for each one. I want you -JP Morgan- to create a synthetic CDO for me. A CDO composed of credit default swaps on a portfolio composed of these specific securities. The CDO will be composed of the end of the swaps that will benefit enormously when the underlying bonds go through the roof. Can you do it?"

Every credit default swap has - by definition - two ends. One end benefits if the reference assets perform well. That is the "long" end. The other end of the swap benefite is the reference assets perform poorly. That is the "short" end of the swap.

If Buffet's CDO will hold the "long" ends of the swaps, what about the "short" ends? JP Morgan knows they'll have to find a counterparty for the "short" end of those swaps. Someone to be "short" what Buffet is "long". In effect, someone to bet agianst Buffet. They have someone in mind. They go to John Paulson, who they know has been shorting mortgage related bonds. They market the "short" end of the "Buffet portfolio" to them and Paulson buys it.

So Buffet is long, Paulson is short. But Morgan hasn't told Paulson that Buffet is on the other end of his "short" nort that Buffet specifically designed this CDO to go through the roof.

Six months later the bonds have indeed gone to the moon, Buffet makes a killing and Paulson looses his shirt.



How do we feel about this deal? I'll admit that is feels MUCH less dirty / wrong / slimey to me than the GS Abacus deal. I think it is because in the hypothetical above, it is the short seller who looses. Nobody loves the short sellers. Is it just me? The facts are exactly the same, but they FEEL different. How much of our ire over the GS Abacus deal is not the behavior of the broker but...

1- in real life the short seller won. Nobody likes short sellers.
and
2- it is Goldman ... The giant vampire squid



Just out of curiosity .... has anyone ever bought a stock or bond .... any stock or bond at all ... and had the broker tell them that the shares or units they are about to purchase are the product of someone who is selling short? It has to happen all the time. Barrons published "SHORT POSITION" data this weekend. There are millions and millions of shares shorted so this MUST happen all the time. Anyone ever had a broker tell them that they were buying what someone else is shorting?

[dixiegrrrrl]

2. Joanne..been meaning to tell you for a long time

how much I appreciate your posts and links.
Please don't stop.

:hi:

[BrklynLiberal]

3. Greed and hubris. Plain and simple.